Prosper taps HELOCs to drive fintech lender's growth strategy
As other online lenders like Lending Club and SoFi ramp up their efforts to compete with banks, Prosper is going a different way. The fintech firm announced Wednesday that it will launch a new online home equity line of credit next year — through banks.
The announcement is notable because it’s a strategy shift for Prosper, which became one of the first nonbank online lenders in 2005 and has offered only one product — a personal loan — for the past 12 years. The company has made $13 billion in personal loans, which are backed by Web Bank and sold to investors. It will continue to offer these loans. But Prosper, whose CEO for the past two years, David Kimball, was formerly the chief financial officer at USAA, is now also trying to ink deals with banks rather than strictly compete with them.
The announcement also represents a big bet on home equity lines of credit, which the company believes will be in high demand over the next few years. Additionally, it comes on the heels of Prosper’s second quarter credit tightening, which were reflected in lower loan volumes reported for the third quarter on Wednesday. Quarterly originations were $640 million, down from $822 million a year ago.
Change in direction
Prosper is open about the strategic shift and why it's necessary.
“Our ambition is focused on a few products,” Kimball said. “We’ve had 12 years of one product, this will be our second financial product. At this stage you won’t see us ‘rebundling the bank,’ as others have indicated they’re doing. You’ll see us instead focus on select products and doing them very well.”
For the new home equity line, Prosper will provide a landing page where potential borrowers will enter information — this can live on Prosper’s website or the bank’s website. Prosper will prepopulate data fields wherever possible and only ask potential borrowers questions that are relevant to them. Prosper will verify income and identity and run the application data through partner banks’ underwriting criteria to render a quick prequalification approval decision.
Prosper will then hand off the customer and the loan application to the bank, which will close and service the line of credit. In time, Prosper will also offer to handle asset validation and closing. Kimball said Prosper has had many conversations with regional banks about using its HELOC platform.
“That is a sweet spot,” he said.
Community banks and large banks that determine they need to buy rather than build in this area are also candidates, he said.
“Part of the reason individuals go for personal loans is because their home equity experience is so painful, because it takes so long,” he said. “If I could give you something on a much shorter timeframe at a lower rate, one where you don’t have to take the whole funding immediately but you take the funding as you need it, that changes the dynamic.”
To be sure, Prosper is not alone in offering its loan origination technology to banks. Zest, Upstart, Avant, Kabbage and OnDeck are among the online lenders that already do this.
Upstart received the industry’s only no-action letter from the Consumer Financial Protection Bureau, whereby the company can keep doing its AI-based underwriting model, which takes into account education and occupation data alongside more traditional credit criteria, while the agency watches the outcomes. Customers Bank and BankMobile also use the software.
What’s different about what Prosper is doing s that this is a new product, not a private-label version of the existing personal loan product. Another way Prosper is departing from its online banking brethren is it’s cutting back its use of direct mail.
“One thing we’ve seen is on a year over year basis there are far more people providing direct mail out to consumers than there were in 2017, it’s a much more crowded space,” Kimball said. “We’ve dialed back on direct mail because we think that space is really crowded right now.”
The company is testing digital messages.
According to CNBC, 10 nonbank lenders that Credit Suisse tracks sent out 368 million direct mail pieces in May, a volume increase of 10% over April and a jump of 41% from the same period a year ago.
“It is ironic that these digital firms use 20th-century technology to obtain customers, but nothing beats the targeting capability of direct mail,” noted Peter Renton, founder of Lend Academy and LendIt. “Particularly when states have different rules and interest rate maximums, it makes targeting so much more effective.”
Is a home equity boom coming?
Home equity lines of credit will become more popular over the next few years, according to a study TransUnion released in October. The company estimates 10 million consumers will take out HELOCs between 2018 and 2022, more than double the number originated from 2012 to 2016. The credit bureau’s supporting evidence is that there’s currently $14.4 trillion in home equity. About 70 million homeowners would qualify for a home equity line today, and about 800,000 home equity line of credit borrowers are nearing end-of-draw in the next 12 months.
“You continue to see people build back equity in the home” as they recover from the last recession, Kimball said.
Kimball also expects that as interest rates rise, people will start to rethink high-interest credit card debt and consider lower-rate lines of credit.
“The HELOC, because it’s secured, provides people who have equity in their home a way to get a less expensive source of borrowing,” he said.
Other online lenders are likely to enter the HELOC market, too.
“My expectation is as we move into this space and as we prove that it is a space that is desirable, not only will consumers come to this more than they have, but the competition absolutely will come to this,” Kimball said.
Kimball said he is learning a lot from his competitors.
“Would I love to be in a space where nobody competed with me? Sure,” he said. “My investors would love that too. That’s not a reality that exists for too many spaces. You can look at competition in a victim way or in a how-does-this-make-me-better way. As we look at competitors, even indirect competitors, we look at, what do they do really well, what mistakes have they made that we can learn from? We’re always learning from competition, and I assume they’re doing the same with us.”
Tightening credit for personal loans
After online lenders experienced a rise in defaults in 2017, Prosper, SoFi, LendingClub and Avant all tightened their credit standards.
“In the second quarter, we took significant adjustments to our approach on credit,” Kimball said. “A big part of that is, like a lot of people, we see a recession on the horizon. It could be two years away, but since we’re writing three-to-five-year loans, we know we’re riding into a recession. Investors want to see consistent performance.”
Prosper now seeks borrowers with higher credit scores and higher incomes.
“What we don’t want to do is give loans to individuals who can’t pay us back,” Kimball said. “That’s not good for the individual, it’s not good for the investor. So we’re always looking for ways to find people who are better willing or better able to repay.”
As a result, Prosper will show “significantly reduced” loan volume in its third quarter earnings report, which comes out Wednesday.
Prosper was the first online lender to use machine learning in its underwriting, according to Kimball, and it’s on its seventh generation of credit models, about to launch the eighth.
“We’re always looking, just as the competition is always looking, for ways to improve underwriting," Kimball said. "We’re looking at different sources of information to help us.”
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